External shocks’ effects on the co-movements of currency and stock returns in three Southern African Development Community states

Abstract

Background: Although numerous researchers have discovered a negative association between stock-market returns and changes in exchange rates, the literature does not address how external shocks may alter these correlations.

Aim: This article investigates the risk synchronisation between stock returns, exchange-rate returns, geopolitical risk (GPR), and global economic policy uncertainty (GEPU) concerning countries within the Southern African Development Community (SADC).

Setting: The SADC countries over the period February 2005–August 2021.

Methods: The wavelet techniques were used to address the study’s objectives.

Results: The bivariate results show that there was a positive interdependence between the stock market and the currency market in Botswana and Mauritius from 2007 to 2012. In South Africa, there is always significant co-movement between the two markets. The partial wavelet shows that, while both increasing GPR and GEPU influence the correlation between stock returns and exchange-rate returns, GPR has a greater impact than GEPU. Finally, the wavelet multiple correlations analysis reveals that the Botswana exchange-rate reaction to shocks is indeterminate, with the ability to lead or lag in terms of how the SADC economies respond to shocks across all-time scales.

Conclusion: The findings from the study imply that investors should watch for changes in the GEPU, particularly the GPR, if they are concerned about the stock markets in Botswana, Mauritius, and South Africa.

Contribution: This is the first study to evaluate the conditional effect of external shocks on the co-movement of currency returns and stock returns in SADC countries using wavelet techniques.